–High Inflation, Headline & Core, Signal on Employment
–Possible Labor Market Performance Erosion May Be ‘Highly Persistent’

By Brai Odion-Esene

WASHINGTON (MNI) – A notable rise in U.S. consumer prices, even
excluding volatile energy and food items, is a sign the country’s labor
market is “much closer” to the Fed’s maximum employment mandate,
Minneapolis Federal Reserve Bank President Narayana Kocherlakota said
Thursday.

In a speech prepared for delivery to the Economic Club of
Minnesota, Kocherlakota also discussed the recent adverse changes in the
labor market’s performance, and the diverging opinions on whether those
changes “are largely reversible under appropriate policy,” or likely to
be “highly persistent.”

Kocherlakota focused on the bulk of his remarks on the jobs crisis,
saying that “estimating maximum employment is particularly challenging
right now.”

He sees the behavior of inflation as a key indicator, saying “the
term “maximum employment” in the statutory dual mandate is often
interpreted as referring to the level of employment that is sustainable
over the longer run without acceleration in inflation. Inflation was
distinctly higher in 2011 than in 2010 and continues to run above the
FOMC’s target of 2%.”

Even core inflation went up “notably,” Kocherlakota noted, arguing
“I see these changes as a signal that our country’s current labor market
performance is much closer to ‘maximum employment’ than the post-World
War II U.S. data alone would suggest. As I’ve argued in the past,
appropriate policy should be responsive to such signals.”

Following the Great Recession, Kocherlakota said employers are not
filling their job openings as readily as would normally be expected
given the high unemployment rate.

“The labor force participation rate has been falling steadily, and
the employment/population ratio remains near its low point. The
Beveridge curve shows considerable deterioration in labor market
matching efficiency,” he said.

How persistent will these adverse conditions be? Kocherlakota noted
two views held by economists. The first is influenced by patterns in
post-World War II data for the United States that suggest the current
deterioration in U.S. labor market performance can be addressed under
“appropriate policy.”

“The second view is less sanguine. It says that the post-World War
II data do not contain an economic crisis of the kind or magnitude that
hit the United States in 2008. Such a crisis could well have a different
kind of impact on labor markets than the earlier postwar recessions,” he
said.

Drawing on the Swedish experience — the banking, currency and
financial crises it underwent in the early 1990s — Kocherlakota warned
that policymakers must “contemplate the possibility that the erosion in
labor market performance that we’ve seen in the United States over the
past five years may be highly persistent, even under appropriate
monetary policy.”

However, the different interpretations regarding the persistence of
poor labor market conditions will have implications for current monetary
policy, he added.

“In particular, policymakers who see the deterioration in labor
market performance as reversible using monetary policy will typically
favor more accommodative policy than those who view the deterioration as
more protracted,” Kocherlakota said.

Given the wide range of factors that the Fed must contemplate as it
crafts policy, Kocherlakota said the Federal Open Market Committee, the
central bank’s steering group, needs to do more to communicate “the
economic uncertainties that we face as policymakers and how our
policymaking will respond to new information about those uncertainties.”

** MNI Washington Bureau: 202-371-2121 **

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